(Bloomberg) — A decade and a half ago, Guillermo Felices was helping clients navigate Europe’s sovereign debt crisis. Now, he’s extolling the bonds once at the center of that storm.
Italy, Spain, Ireland, Portugal and Greece, which nearly collapsed under the burden of their debt in 2011, have since transformed into top picks for firms like PGIM Fixed Income, where Felices works as a London-based investment strategist.
His recommendations are emblematic of the historic shift that’s taken place in the region’s debt-market hierarchy. The recovery in the nations on Europe’s periphery has been years in the making and as investors shy away from President Donald Trump’s policy making, their bonds are increasingly being seen as healthy alternatives to the debt of Europe’s biggest economies.
Spanish, Greek and Portuguese bonds now all yield less than France. Italy is on course to outperform Germany and France for the fourth year in a row on a total returns basis — matching the longest winning streak on record.
“Post-crisis, the story was always that Europe is going to be difficult to solve,” Felices said, pointing to its history of sluggish growth, excessive public spending and squabbling among member states. “This is less the case now, especially in terms of fiscal profligacy, while the US is more unorthodox.”
US Treasuries have been buffeted this year, most notably in April when Trump unveiled a package of aggressive trade tariffs. Worries over the US fiscal outlook have also flared up.
The appeal of the peripheral bonds, meanwhile, is down to a post-pandemic economic recovery that outstripped the gains in the region’s economic powerhouses of Germany and France. Spain is a particular bright spot, and is expected to grow around 2.5% this year, more than double the pace of the wider bloc.
Investors’ exposure to the nations on Europe’s fringes remains near the highest levels seen in the past five years, according to a monthly Bank of America survey published on Friday.
Another key turning point came in March, when Germany abandoned decades of fiscal austerity and vowed to plow billions of euros into defense and infrastructure. While that’s seen as a vital catalyst for EU growth, the coming deluge of German bonds has made some investors cautious and damped prices for the nation’s debt.
“We prefer countries with strong growth and which haven’t committed to raising defense spending as much as Germany,” said Niall Scanlon, fixed income portfolio manager at Mediolanum International Funds Limited. Spain is his “standout pick,” though he says he has also favored Italy this year.
Then there’s France, once considered a proxy for Germany in terms of its financial heft, but now a no-go for many bond funds. Investor sentiment soured last year after unbridled public spending left it with the largest deficit in the euro area. Attempts by the government to pass its 2026 budget in the coming months may trigger a fresh bout of volatility.
As a result, the difference in borrowing costs between France and Italy has shrunk: investors demand just 12 basis points of extra yield to lend to Italy for 10 years rather than France — the smallest amount in two decades.
“We prefer Italy and Spain over France and Germany,” said Sachin Gupta, portfolio manager at bond giant Pacific Investment Management Co. The periphery’s outperformance “can continue, even after having come a long way,” he added.
In a speech in June, European Central Bank official Philip Lane pointed to the relative stability of euro-area bonds this year, even as other debt markets saw significant price swings. That’s likely down to factors including inflows from domestic and global investors as they reduced exposure to US assets, as well as a “shared commitment” to fiscal responsibility across the bloc, Lane said.
To be sure, peripheral bonds have already rallied so much that potential returns aren’t as attractive as they once were. Greece is a case in point — less than three years ago its 10-year bonds yielded more than 5%. That’s since declined to about 3.30%.
“It is undeniable that the heavy lifting has been done,” said Gareth Hill, a senior fund manager at Royal London Asset Management Ltd.
And there’s still some reticence among US investors to venture into European sovereign markets beyond German bonds, which retain their status as the region’s haven asset. Ales Koutny, head of international rates at Vanguard, said that while US demand has picked up, bunds have taken “the lion’s share” of inflows.
Still, it’s hard to make a case that the periphery nations will fall back into the slow lane, unless there’s a fresh economic crisis or sharp lapse in budgetary discipline, according to Royal London’s Hill.
Kristina Hooper, chief market strategist for Man Group Plc, argues that —with the appropriate vetting — there are plenty of opportunities to be found beyond the traditional core.
“It is the time to diversify away, at least modestly, from the US,” Hooper said from New York. Peripheral countries “are doing well, and their bonds look far more attractive than they used to,” she said.
–With assistance from Michael Mackenzie, Anya Andrianova and Freya Jones.
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